UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 
 Washington,
D.C. 20549
 
 FORM
10-Q
 
 ý
              
              QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
      OF 1934FOR
      THE QUARTERLY PERIOD ENDED DECEMBER 28, 2007o
              
              TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE
      ACT OF 1934
 
  Commission
file number   000-04169
 
 SYS
 (Exact
name of Registrant as specified in its charter)
  California
              
              95-2467354(State
      or other jurisdiction of
                incorporation
      or organization)
              
              (I.R.S.
      Employer
                Identification
      No.)
 
  5050
      Murphy Canyon Road, Suite 200, San Diego,
      California 92123
 (858)
715-5500
 (Address,
including zip code, and telephone number, including
 area
code, of Registrant’s principal executive offices)
 
 Indicate
by check mark whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yesý Noo
  Indicate
by check mark whether the Registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer.  See definition of
“accelerated filer and large accelerated filer” in Rule 12b-2 of the
Securities Exchange Act of 1934.  (Check one):  Large
accelerated filer  o                    Accelerated
filer  o                    Non-accelerated
filer  x
 
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).  Yes  o  No  x
 
 As of
January 31, 2008 there were 19.7 million shares of the registrant’s common stock
outstanding.
  
  
   SYS
  FORM
10-Q
  FOR
THE QUARTERLY PERIOD ENDED DECEMBER 28, 2007
  INDEX
  PART
      I. FINANCIAL INFORMATION
  Page
      NoItem
      1.
              
              Financial
      StatementsCondensed
      Consolidated Balance Sheets as of December 28, 2007 and June 30, 2007
      (unaudited)
              3Condensed
      Consolidated Statements of Operations for the Three and Six Months Ended
      December 28, 2007 and December 29, 2006 (unaudited)
              4Condensed
      Consolidated Statements of Cash Flows for the Six Months Ended December
      28, 2007 and December 29, 2006 (unaudited)
              5Notes
      to Condensed Consolidated Financial Statements
              7Item
      2.
              
              Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
              14Item
      3.
              
              Quantitative
      and Qualitative Disclosures About Market Risk
              20Item
      4.
              
              Controls
      and Procedures
              20PART
      II. OTHER INFORMATIONItem
      1.
              
              Legal
      Proceedings
              21Item
      1A
              
              Risk
      Factors
              21Item
      2.
              
              Unregistered
      Sales of Equity Securities and Use of Proceeds
              22Item
      3.
              
              Defaults
      Upon Senior Securities
              22Item
      4.
              
              Submission
      of Matters to a Vote of Security Holders
              22Item
      5.
              
              Other
      Information
              22Item
      6.
              
              Exhibits
              23Signatures
              25Exhibit
      31.1
              26Exhibit
      31.2
              27Exhibit
      32.1
              28Exhibit
      32.2
              29
 
 2
 
 PART I.
FINANCIAL INFORMATION
 Item 1. Financial
Statements
 SYS
      AND SUBSIDIARIES
                CONDENSED
      CONSOLIDATED BALANCE SHEETS (UNAUDITED)
                (amounts
      in thousands, except par value amounts)December
      28, 2007
              
              
              June
      30,
                2007ASSETSCurrent
      Assets:Cash
      and cash equivalents
              
              $
              2,188
              
              
              $
              2,770Accounts
      receivable, net
              
              
              18,574
              
              
              
              16,321Inventories,
      net
              
              
              484
              
              
              
              599Prepaid
      expenses
              
              
              456
              
              
              
              603Deferred
      taxes
              
              
              748
              
              
              
              275Total
      current assets
              
              
              22,450
              
              
              
              20,568Furniture,
      equipment and leasehold improvements, net
              
              
              1,997
              
              
              
              1,951Intangible
      assets, net
              
              
              5,601
              
              
              
              6,111Goodwill
              
              
              23,107
              
              
              
              23,477Other
      assets
              
              
              227
              
              
              
              276Total
      assets
              
              $
              53,382
              
              
              $
              52,383LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      Liabilities:Line
      of credit
              
              $
              1,062
              
              
              $
              --Accounts
      payable
              
              
              4,261
              
              
              
              5,270Accrued
      payroll and related expenses
              
              
              3,231
              
              
              
              3,887Income
      taxes payable
              
              
              757
              
              
              
              194Other
      accrued liabilities
              
              
              1,153
              
              
              
              1,474Current
      portion of note payable
              
              
              125
              
              
              
              --Deferred
      revenue
              
              
              1,207
              
              
              
              1,552Total
      current liabilities
              
              
              11,796
              
              
              
              12,377Convertible
      notes payable, related party
              
              
              975
              
              
              
              975Convertible
      notes payable
              
              
              2,150
              
              
              
              2,150Note
      payable, net of current portion
              
              
              375
              
              
              
              500Other
      long-term liabilities
              
              
              56
              
              
              
              69Deferred
      revenue, net of current portion
              
              
              330
              
              
              
              210Deferred
      taxes
              
              
              1,023
              
              
              
              1,023Total
      liabilities
              
              
              16,705
              
              
              
              17,304Commitments
      and ContingenciesStockholders'
      Equity:4%
      convertible preferred stock, $.50 par value; 250 sharesauthorized;
      none issued or outstanding
              
              
              --
              
              
              
              --9%
      preference stock, $1.00 par value; 2,000 sharesauthorized;
      none issued or outstanding
              
              
              --
              
              
              
              --Common
      stock, no par value; 48,000 shares authorized;and
      19,674 and 19,232 shares issued and outstandingas
      of December 28, 2007 and June 30, 2007, respectively
              
              
              36,929
              
              
              
              35,903Accumulated
      deficit
              
              
              (252
              )
              
              
              (824
              )Total
      stockholders’ equity
              
              
              36,677
              
              
              
              35,079Total
      liabilities and stockholders’ equity
              
              $
              53,382
              
              
              $
              52,383
 
 See
accompanying notes to unaudited condensed consolidated financial
statements.
  3
  
 SYS
      AND SUBSIDIARIES
                CONDENSED
      CONSOLIDATED STATEMENTS OF OPERATIONS
                (UNAUDITED)
                (amounts
      in thousands, except per share data)
  Three
      Months Ended
              
              
              Six
      Months EndedDecember
      28,
              
              
              December
      29,
              
              
              December
      28,
              
              December
      29,2007
              
              
              2006
              
              
              2007
              
              2006Revenues
              
              $
              18,121
              
              
              $
              19,216
              
              
              $
              38,631
              
              $
              35,459Operating
      costs and expenses:Costs
      of revenue
              
              
              13,517
              
              
              
              14,655
              
              
              
              28,417
              
              
              27,185Selling,
      general and administrative expenses
              
              
              3,373
              
              
              
              3,666
              
              
              
              6,750
              
              
              6,720Research,
      engineering and development expenses
              
              
              1,126
              
              
              
              1,110
              
              
              
              2,214
              
              
              1,991Total
      operating costs and expenses
              
              
              18,016
              
              
              
              19,431
              
              
              
              37,381
              
              
              35,896Income
      (loss) from operations
              
              
              105
              
              
              
              (215
              )
              
              
              1,250
              
              
              (437
              )Other
      (income) expense:Other
      income
              
              
              (35
              )
              
              
              (24
              )
              
              
              (74
              )
              
              (61
              )Interest
      expense
              
              
              72
              
              
              
              186
              
              
              
              200
              
              
              383Total
      other (income) expense
              
              
              37
              
              
              
              162
              
              
              
              126
              
              
              322Income
      (loss) before income taxes
              
              
              68
              
              
              
              (377
              )
              
              
              1,124
              
              
              (759
              )Income
      tax provision (benefit)
              
              
              23
              
              
              
              (35
              )
              
              
              552
              
              
              (302
              )Net
      income (loss)
              
              $
              45
              
              
              $
              (342
              )
              
              $
              572
              
              $
              (457
              )Net
      income (loss) per share:Basic
              
              $
              0.00
              
              
              $
              (0.02
              )
              
              $
              0.03
              
              $
              (0.03
              )Diluted
              
              $
              0.00
              
              
              $
              (0.02
              )
              
              $
              0.03
              
              $
              (0.03
              )Weighted
      average shares:Basic
              
              
              19,483
              
              
              
              17,521
              
              
              
              19,401
              
              
              16,463Diluted
              
              
              19,569
              
              
              
              17,521
              
              
              
              19,504
              
              
              16,463
  See
accompanying notes to unaudited condensed consolidated financial
statements.
 4
 SYS
      AND SUBSIDIARIES
                CONDENSED
      CONSOLIDATED STATEMENTS OF CASH FLOWS
                SIX
      MONTHS ENDED DECEMBER 28, 2007 AND DECEMBER 29, 2006
                (UNAUDITED)
                (amounts
      in thousands)2007
              
              
              2006Cash
      Flows from Operating Activities:Net
      income (loss)
              
              $
              572
              
              
              $
              (457
              )Adjustments
      to reconcile net income (loss) to net cash (used in) provided by operating
      activities:Depreciation
      and amortization
              
              
              983
              
              
              
              968Share-based
      compensation expense
              
              
              230
              
              
              
              227Accretion
      of debt discount
              
              
              --
              
              
              
              28Deferred
      taxes
              
              
              --
              
              
              
              (305
              )Bad
      debt expense
              
              
              29
              
              
              
              152Stock
      contributed to employee benefit plan
              
              
              467
              
              
              
              475Loss
      (gain) on disposition of equipment
              
              
              1
              
              
              
              (4
              )Changes
      in operating assets and liabilities:Accounts
      receivable
              
              
              (2,282
              )
              
              
              (1,115
              )Income
      tax refund receivable
              
              
              --
              
              
              
              509Inventories
              
              
              115
              
              
              
              168Prepaid
      expenses
              
              
              147
              
              
              
              96Other
      assets
              
              
              39
              
              
              
              --Accounts
      payable
              
              
              (1,009
              )
              
              
              333Accrued
      payroll and related expenses
              
              
              (656
              )
              
              
              (120
              )Income
      taxes payable
              
              
              90
              
              
              
              --Other
      accrued liabilities
              
              
              49
              
              
              
              (401
              )Other
      long term liabilities
              
              
              (13
              )
              
              
              --Deferred
      revenue
              
              
              (225
              )
              
              
              (116
              )Net
      cash (used in) provided by operating activities
              
              
              (1,463
              )
              
              
              438Cash
      Flows from Investing Activities:Purchases
      of furniture, equipment and leasehold improvements
              
              
              (511
              )
              
              
              (432
              )Cash
      received from acquisitions, net
              
              
              --
              
              
              
              202Other
              
              
              1
              
              
              
              33Net
      cash used in investing activities
              
              
              (510
              )
              
              
              (197
              )Cash
      Flows from Financing Activities:Borrowings
      from line of credit
              
              
              12,523
              
              
              
              15,751Payments
      on line of credit
              
              
              (11,461
              )
              
              
              (15,075
              )Payments
      of notes payable
              
              
              --
              
              
              
              (125
              )Proceeds
      from issuance of stock to employee stock purchase plan
              
              
              204
              
              
              
              266Proceeds
      from exercise of stock options and warrants
              
              
              125
              
              
              
              60Net
      cash provided by financing activities
              
              
              1,391
              
              
              
              877Net
      (decrease) increase in cash and cash equivalents
              
              
              (582
              )
              
              
              1,118Cash
      and cash equivalents at beginning of period
              
              
              2,770
              
              
              
              2,106Cash
      and cash equivalents at end of period
              
              $
              2,188
              
              
              $
              3,224
 
  5
  
  SYS
      AND SUBSIDIARIES
                CONDENSED
      CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
                SIX
      MONTHS ENDED DECEMBER 28, 2007 AND DECEMBER 29, 2006
                (UNAUDITED)
                (amounts
      in thousands)2007
              
              
              2006Supplemental
      disclosure of cash flow information:Interest
      paid
              
              $
              134
              
              
              $
              346Income
      taxes paid
              
              $
              462
              
              
              $
              3Acquisition
      of capital leases
              
              $
              --
              
              
              $
              80Common
      stock issued upon cashless exercise of stock options
              
              $
              37
              
              
              $
              --
 
 See
accompanying notes to unaudited condensed consolidated financial
statements.
 
  6
  SYS
AND SUBSIDIARIES
 NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
 (Unaudited)
  1.
Basis of Financial Statement Preparation and Significant Accounting
Policies:
 
 The
accompanying unaudited condensed consolidated financial information of SYS and
its subsidiaries (SYS or the Company) should be read in conjunction with the
audited consolidated financial statements and notes to consolidated
financial statements contained in our Annual Report on Form 10-K for the
year ended June 30, 2007 filed with the Securities and Exchange Commission
(SEC). The accompanying unaudited condensed financial information includes all
subsidiaries on a consolidated basis and all normal recurring adjustments which
are considered necessary by the Company's management for a fair presentation of
the financial position, results of operations and cash flows for the periods
presented. However, these results are not necessarily indicative of results for
a full fiscal year. All of the Company’s operations are primarily conducted in
the United States.
 
 The
Company’s fiscal year is from July 1 through June 30.  The
Company uses the 5-4-4 weeks per period method for each quarter; periods one
(July) and twelve (June) may vary slightly in the actual number of days due to
the beginning and end of each fiscal year.
 
 Use
of Estimates:
  The
preparation of financial statements in conformity with Generally Accepted
Accounting Principles in the United States of America (US GAAP) requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, the disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. In the future, the Company may realize
actual results that differ from the current reported estimates.  The
Company’s significant estimates include those related to revenues and customer
billings, recovery of indirect costs, allowance for doubtful accounts, valuation
of long-lived assets including identifiable intangibles and goodwill, accounting
for income taxes including any related valuation allowance, contingencies, and
share-based compensation.
 
  Indirect
Expense Rate Variance:
  For
interim reporting purposes, SYS applies overhead and selling, general and
administrative expenses as a percentage of direct contract costs based on annual
budgeted indirect expense rates.  To the extent actual expenses for an
interim period are greater than the budgeted rates (unfavorable variance), the
variance is deferred if management believes it is probable that the variance
will be absorbed by future contract activity.  This probability
assessment includes projecting whether future indirect costs will be
sufficiently less than the annual budgeted rates or can be absorbed by seeking
increased billing rates applied on cost-plus-fee contracts.  At the
end of each interim reporting period, management assesses the recoverability of
any amount deferred to determine if any portion should be charged to
expense.  In assessing the recoverability of variances deferred,
management takes into consideration estimates of the amount of direct labor and
other direct costs to be incurred in future interim periods, the feasibility of
modifications for provisional billing rates, and the likelihood that an approved
increase in provisional billing rates can be passed along to a
customer.  Variances are charged to expense in the periods in which it
is determined that such amounts are not probable of recovery. As of December 28,
2007, the deferred unfavorable variance totaled $0.6 million.
 
 Reclassifications:
 
 Certain
amounts in the prior period financial statements have been reclassified to
conform to the current period financial statement presentation. In particular,
allocable indirect expenses that were previously reported for the three and six
month periods ended December 29, 2006 as costs of revenue were reclassified to
selling, general and administrative expenses in the amount of $0.1 million for
both periods.  The Company believes these reclassifications were
immaterial to the overall presentation of the accompanying financial
statements.
 
 2.
New Accounting Pronouncements:
 
  In
December 2007, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 141 (revised 2007)
(“SFAS 141R”), Business
Combinations, which replaces SFAS No 141. The statement retains the
purchase method of accounting for acquisitions, but requires a number of
changes, including changes in the way assets and liabilities are recognized in
purchase accounting. It also changes the recognition of assets acquired and
liabilities assumed arising from contingencies, requires the capitalization of
in-process research and development at fair value, and requires the expensing of
acquisition-related costs as incurred. SFAS 141R is effective for us beginning
July 1, 2009 and will apply prospectively to business combinations
completed on or after that date.
 
 
 7
 On
July 1, 2007, the Company adopted the provisions of the FASB Interpretation
No. 48 (“FIN48”), Accounting for Uncertainty in Income
Taxes – an interpretation of FASB Statement No. 109,which provides
a financial statement recognition threshold and measurement attribute for a tax
position taken or expected to be taken in a tax return. UnderFIN48, we may recognize the tax benefit
from an uncertain tax position only if it is more likely than not that the tax
position will be sustained on examination by the taxing authorities, based on
the technical merits of the position. The tax benefits recognized in the
financial statements from such a position should be measured based on the
largest benefit that has a greater than 50% likelihood of being realized upon
ultimate settlement.FIN48 also
provides guidance on derecognition of income tax assets and liabilities,
classification of current and deferred income tax assets and liabilities,
accounting for interest and penalties associated with tax positions, and income
tax disclosures. Upon adoption, we recognized a $19,000 charge to our beginning
accumulated deficit as a cumulative effect of a change in accounting principle.
See Note 10 – Income Tax.
  In
May 2007, the FASB issued FASB Staff Position (“FSP”) FIN 48-1 Definition
of Settlement in FASB Interpretation No. 48 (FSP FIN 48-1). FSP FIN 48-1
provides guidance on how to determine whether a tax position is effectively
settled for the purpose of recognizing previously unrecognized tax benefits. FSP
FIN 48-1 is effective for the Company beginning July 1, 2007. The
implementation of this standard had no significant impact on the Company’s
condensed consolidated financial statements.
 
 In
February 2007, the FASB issued Statement No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities, including an amendment of FASB
Statement No. 115 (“SFAS 159”). SFAS 159 permits entities to choose to measure
many financial instruments and certain other items at fair value that are not
currently required to be measured at fair value. SFAS 159 will be effective for
the Company beginning July 1, 2008. The Company is in the process of
determining the impact of this statement on its consolidated financial
statements.
 
 In
September 2006, the FASB issued Statement No. 157 (SFAS 157), Fair Value
Measurements. SFAS 157 prescribes a single definition of fair value as the price
that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date. The
accounting provisions of SFAS 157 will be effective for the Company beginning
July 1, 2008. The Company is in the process of determining the impact of this
statement on its consolidated financial statements.
 
 3.  Share-Based
Compensation:
 
 The
Company has two stock plans that provide or have provided for the grant to
employees of stock options, permit the grant of non-statutory share-based awards
to paid consultants, and provide for the automatic grant of non-statutory
share-based awards to outside directors. The plans may have options with terms
of no more than ten years. The maximum terms of the options granted under these
plans have been seven years with a maximum vesting of five years. The Company
also has an employee stock purchase plan (ESPP) for employees to purchase its
common stock at a discount. The ESPP provides for enrollment on the first day of
a six-month period in which the employees can elect payroll deductions for the
purchase of the Company’s common stock. The exercise date of the ESPP is the
last day of the six-month period and the purchase price is 85% of the fair
market value of a share of common stock on the enrollment or exercise date,
whichever is lower.
 
 The
Company adopted Statement of Financial Accounting Standards No. 123
(revised 2004), “Share-Based Payment” (“SFAS 123R”), effective July 1, 2005
using a modified prospective application, as permitted under SFAS 123R. Under
the modified-prospective-transition method, share-based compensation expense
recognized during the three and six months ended December 28, 2007 and December
29, 2006 includes stock options granted prior to, but not yet vested as of
July 1, 2005, based on the grant-date fair value estimated in accordance
with the original provisions of SFAS No. 123 and the following items based
on the grant date values estimated in accordance with the provisions of SFAS No.
123R: (a) stock options granted after June 30, 2005, (b) ESPP with offering
periods commencing subsequent to June 30, 2005 and (c) stock issued to
employees of the Company.
  8
 
 The
following table summarizes certain information regarding stock options during
the six months ended and as of December 28, 2007 (in thousands, except per share
amounts):
 
 WeightedWeighted
              
              
              AverageAverage
              
              
              Remaining
              
              
              AggregateExercise
              
              
              Contractual
              
              
              IntrinsicShares
              
              
              Price
              
              
              Term
      (Yrs)
              
              
              ValueBalance
      outstanding at June 30, 2007
              
              
              2,132
              
              
              $
              2.49Granted
              
              
              344
              
              
              
              2.19Exercised
              
              
              (129
              )
              
              
              1.25Forfeited
              
              
              (89
              )
              
              
              3.56Expired
              
              
              (81
              )
              
              
              2.05Balance
      outstanding at December 28, 2007
              
              
              2,177
              
              
              $
              2.49
              
              
              
              2.56
              
              
              $
              27Options
      exercisable at December 28, 2007
              
              
              1,305
              
              
              $
              2.51
              
              
              
              1.80
              
              
              $
              26
 
 The
following is a summary of the share-based compensation expense recognized by the
Company for the three and six months ended December 28, 2007 and December 29,
2006 (in thousands):
  Three
      Months Ended
              
              
              Six
      Months EndedDecember
      28,
              
              
              December
      29,
              
              
              December
      28,
              
              
              December
      29,2007
              
              
              2006
              
              
              2007
              
              
              2006Stock
      options
              
              $
              44
              
              
              $
              50
              
              
              $
              112
              
              
              $
              112Employee
      stock purchase plan
              
              
              59
              
              
              
              62
              
              
              
              108
              
              
              
              115Total
              
              $
              103
              
              
              $
              112
              
              
              $
              220
              
              
              $
              227
 
  The
following table summarizes the weighted average assumptions used to estimate the
value of share-based awards granted for the six months ended December 28, 2007
and December 29, 2006 for the Company’s stock option plan and employee stock
purchase plan:
 Stock
      Options
              
              
              ESPP2007
              
              
              2006
              
              
              2007
              
              
              2006Dividend
      yield
              
              
              0.0
              %
              
              
              0.0
              %
              
              
              0.0
              %
              
              
              0.0
              %Expected
      volatility
              
              
              41.2
              %
              
              
              38.6
              %
              
              
              46.3
              %
              
              
              38.4
              %Risk-free
      interest rate
              
              
              4.4
              %
              
              
              4.8
              %
              
              
              5.0
              %
              
              
              5.3
              %Expected
      lives (in years)
              
              
              3.77
              
              
              
              3.85
              
              
              
              0.50
              
              
              
              0.50
 
 During
the six months ended December 28, 2007, the Company issued warrants to a
consultant for services to purchase 15,000 shares of the Company’s stock at an
exercise price of $2.25 per share.  The warrants fully vested on
December 31, 2007 and expire on September 18, 2012.  The Company
recorded $10,000 of share based compensation expense related to these
warrants.
 
 4.
Accounts Receivable:
 
 Accounts
receivable consisted of the following (in thousands):
 December
      28,
              
              
              June
      30,2007
              
              
              2007Amounts
      billed
              
              $
              9,985
              
              
              $
              8,600Amounts
      unbilled
              
              
              9,014
              
              
              
              8,150Less
      allowance for doubtful accounts
              
              
              (425
              )
              
              
              (429
              )Totals
              
              $
              18,574
              
              
              $
              16,321
 
 9
  
 5.
Inventories:
 
 Inventories
consisted of the following (in thousands):
 December
      28,
              
              
              June
      30,2007
              
              
              2007Raw
      materials, net
              
              $
              415
              
              
              $
              473Finished
      goods, net
              
              
              69
              
              
              
              126$
              484
              
              
              $
              599
 
 6.
Furniture, Equipment and Leasehold Improvements:
 
 Furniture,
equipment and leasehold improvements consisted of the following (in
thousands):
  December
      28,
              
              
              June
      30,2007
              
              
              2007Furniture
      and equipment
              
              $
              4,726
              
              
              $
              4,266Leasehold
      improvements
              
              
              460
              
              
              
              4125,186
              
              
              
              4,678Less
      accumulated depreciation and amortization
              
              
              (3,189
              )
              
              
              (2,727
              )Net
              
              $
              1,997
              
              
              $
              1,951
 
 Depreciation
and amortization expense for furniture, equipment and leasehold improvements was
$0.2 million for both three months ended December 28, 2007 and December 29,
2006, respectively, and  $0.5 million and $0.4 million for the six
months ended December 28, 2007 and December 29, 2006, respectively.
 
 7.
Intangible Assets and Goodwill:
 
 Intangible
assets consisted of the following (in thousands):
 
 WeightedAverage
              
              
              GrossAmortization
              
              
              Carrying
              
              
              AccumulatedPeriod
      (Yrs)
              
              
              Value
              
              
              Amortization
              
              
              NetDecember 28, 2007Technology
              
              
              9
              
              
              $
              2,550
              
              
              $
              (617
              )
              
              $
              1,933Trade
      name
              
              
              7
              
              
              
              1,727
              
              
              
              (553
              )
              
              
              1,174Customer
      relationships
              
              
              9
              
              
              
              3,254
              
              
              
              (769
              )
              
              
              2,485Patents
              
              
              -
              
              
              
              29
              
              
              
              (29
              )
              
              
              --Other
      intangibles
              
              
              1
              
              
              
              697
              
              
              
              (688
              )
              
              
              9Total
              
              
              
              
              
              $
              8,257
              
              
              $
              (2,656
              )
              
              $
              5,601June 30, 2007Technology
              
              
              9
              
              
              $
              2,550
              
              
              $
              (464
              )
              
              $
              2,086Trade
      name
              
              
              7
              
              
              
              1,727
              
              
              
              (407
              )
              
              
              1,320Customer
      relationships
              
              
              9
              
              
              
              3,254
              
              
              
              (569
              )
              
              
              2,685Patents
              
              
              -
              
              
              
              29
              
              
              
              (29
              )
              
              
              --Other
      intangibles
              
              
              1
              
              
              
              697
              
              
              
              (677
              )
              
              
              20Total
              
              
              
              
              
              $
              8,257
              
              
              $
              (2,146
              )
              
              $
              6,111
 
 Amortization
expense for intangible assets was $0.3 million for both three months ended
December 28, 2007 and December 29, 2006, respectively, and $0.5 million and $0.6
million for the six months ended December 28, 2007 and December 29, 2006,
respectively.
  10
  
 Estimated
aggregate future amortization expense for acquisition-related intangible assets
in future fiscal years is as follows:
  Fiscal YearSix
      months ending June 30, 2008
              
              $
              5052009
              
              
              9202010
              
              
              7522011
              
              
              6622012
              
              
              628Thereafter
              
              
              2,134Total
              
              $
              5,601
 
 Goodwill
 
 The
changes in the carrying amount of goodwill during the six months ended December
28, 2007 were as follows (in thousands):
  DSG
              
              
              PSSIG
              
              
              TotalBalance
      June 30, 2007
              
              $
              11,344
              
              
              $
              12,133
              
              
              $
              23,477Miscellaneous
      purchase price allocation adjustments
              
              
              --
              
              
              
              (370
              )
              
              
              (370
              )Balance
      December 28, 2007
              
              $
              11,344
              
              
              $
              11,763
              
              
              $
              23,107
 
 8.
Convertible Notes Payable and Other Debt:
 
 As of
December 28, 2007 and June 30, 2007, the Company had outstanding convertible
notes payable totaling $3.1 million, of which $1.0 was payable to related
parties. The convertible notes payable are unsecured and subordinate to the
Company’s bank debt, bear interest at 10% per annum payable quarterly, principal
is due February 14, 2009 and are convertible at any time into shares of common
stock at a conversion rate of $3.60 per share.
 
 Related
parties consist of directors, officers and employees of the Company and their
affiliates that are holders of the notes payable.
 
 The
Company has a bank line of credit facility which provides for borrowings of up
to $4.0 million. This facility expires on December 28, 2008.
 
 This
credit facility, as it relates to any balances outstanding on the line of
credit, contains financial and other covenants, and is collateralized by
substantially all of the assets of the Company. Borrowings pursuant to the line
of credit bear interest at the bank’s prime rate plus 0.25% (7.5% as of December
28, 2007). As of December 28, 2007, the Company had approximately $1.1 million
of borrowings outstanding under this line of credit and none as of June 30,
2007. On September 27, 2006, the Company and the lender amended the terms of the
credit facility to eliminate the minimum quarterly net income covenant and the
ratio of Senior debt to EBITDA covenant, and modified the tangible effective net
worth covenant and cash flow coverage ratio covenant. As of December 28, 2007,
the Company was in compliance with the covenants of the credit
facility.
 
 The
credit facility allows the Company to use, under a Sub Facility, up to $2.0
million of the credit facility for permitted acquisition purposes and $750,000
for minority investment purposes.  Borrowings under the Sub Facility bear
interest at the bank’s prime rate plus 0.50% (7.75% as of December 28, 2007).
The Company is subject to certain restrictions on the permitted acquisitions and
minority investments and in some cases must receive the lender’s consent prior
to using the facility for such purposes.
 
 If the
Sub Facility is used for permitted acquisitions or minority investments, such
borrowings must be repaid over 48 months. During fiscal 2006, in connection with
the purchase of RBIS, the Company utilized $1.0 million of the line of credit
for payment of a portion of the purchase consideration. In accordance with the
terms of the credit facility, the $1.0 million was converted to a term note
effective June 10, 2006. The term note is payable in monthly installments of
$21,000 plus interest for the fiscal years 2007 through 2010, with payments
beginning in October 2006. As of December 28, 2007, approximately $0.5 million
was outstanding under the term note, of which $0.1 million was classified as a
current liability as a result of the Company’s $250,000 prepayment on June 30,
2007 of the principal payments required through June 30, 2008. Principal amounts
of $250,000 on this note are due annually in fiscal years 2009 and 2010. The
outstanding balance related to the Sub Facility reduces the maximum borrowings
available under the line of credit. As a result, as of December 28, 2007, the
maximum borrowing capacity under the line of credit was $3.5 million and the
remaining available borrowing capacity was $2.4 million.
 
 11
 9.
Net Income (Loss) Per Share:
  Basic net
income (loss) per common share is calculated by dividing net income (loss)
applicable to common stock by the weighted average number of common shares
outstanding during the period. The calculation of diluted net income (loss) per
common share is similar to that of basic net income (loss) per common share,
except that the denominator is increased to include the number of additional
common shares that would have been outstanding if all potentially dilutive
common shares, principally those issuable upon the conversion of notes payable
and the exercise of stock options and warrants, were issued during the
period.
 
 The
following table summarizes the calculation of basic and diluted net income
(loss) per common share for each period (in thousands except per share
data):
 
 Three
      Months Ended
              
              
              Six
      Months EndedDecember
      28,
              
              
              December
      29,
              
              
              December
      28,
              
              
              December
      29,2007
              
              
              2006
              
              
              2007
              
              
              2006Numerators:Net
      income (loss)
              
              $
              45
              
              
              $
              (342
              )
              
              $
              572
              
              
              $
              (457
              )Denominators:Weighted
      average shares for basic net income (loss) per common
share
              
              
              19,483
              
              
              
              17,521
              
              
              
              19,401
              
              
              
              16,463Add
      dilutive effect of assumed exercise of stock options using the treasury
      stock method
              
              
              --
              
              
              
              --
              
              
              
              47
              
              
              
              --Add
      dilutive effect of shares related to employee stock purchase
      plan
              
              
              86
              
              
              
              --
              
              
              
              56
              
              
              
              --Weighted
      average shares for diluted net income (loss) per common
    share
              
              
              19,569
              
              
              
              17,521
              
              
              
              19,504
              
              
              
              16,463Basic
      net income (loss) per common share
              
              $
              0.00
              
              
              $
              (0.02
              )
              
              $
              0.03
              
              
              $
              (0.03
              )Diluted
      net income (loss) per common share
              
              $
              0.00
              
              
              $
              (0.02
              )
              
              $
              0.03
              
              
              $
              (0.03
              )
 
 For the
three and six months ended December 28, 2007, 0.9 million shares related to
convertible notes were excluded from the calculation of diluted EPS because they
were anti-dilutive. For the three and six months ended December 29, 2006, a
total of 1.9 million shares related to stock options, warrants and convertible
notes were excluded from the calculation of diluted EPS because they were
anti-dilutive.
 
 10.
Income Tax:
 
 On
July 1, 2007, we adopted the provisions of FIN48, Accounting for Uncertainty in Income
Taxes – an interpretation of FASB Statement No. 109, which provides
a financial statement recognition threshold and measurement attribute for a tax
position taken or expected to be taken in a tax return. UnderFIN48, we may recognize the tax
benefit from an uncertain tax position only if it is more likely than not that
the tax position will be sustained on examination by the taxing authorities,
based on the technical merits of the position. The tax benefits recognized in
the financial statements from such a position should be measured based on the
largest benefit that has a greater than 50% likelihood of being realized upon
ultimate settlement.FIN48 also
provides guidance on derecognition of income tax assets and liabilities,
classification of current and deferred income tax assets and liabilities,
accounting for interest and penalties associated with tax positions, and income
tax disclosures.
 
 Adopting
FIN48 had the following impact on
our financial statements: increased current deferred tax assets by $0.5 million
and the current income tax payable by $0.5 million. As of July 1, 2007 and
as of December 28, 2007, we had $1.1 million of unrecognized tax benefits, none
of which if recognized, would affect our effective tax rate. The Company
recognizes interest accrued related to unrecognized tax benefits in interest
expense and penalties in operating expenses. As of July 1, 2007 and
December 28, 2007, the balance sheet included $0.1 million of accrued interest
related to uncertain tax positions.
 
 The
Company files income tax returns in the U.S. federal jurisdiction and various
states jurisdictions. With few exceptions, the Company is no longer subject to
U.S. federal, state and local income tax examinations by tax authorities for
fiscal years before 2004. In January 2008, the Internal Revenue Service (IRS)
completed its examination of the Company’s U.S. income tax returns for fiscal
years ended June 30, 2004 through June 30, 2006.  The Company has
agreed to IRS adjustments to reverse the acceleration of the deduction of
certain expenses incurred in a subsequent year for the tax years under audit
resulting in a payment in January 2008 for taxes of $483,000.  This
amount was included in the income taxes payable as of June 30, 2007 and December
28, 2007.
 
 12
 11.
Legal Matters:
 
 We are
involved in legal actions in the normal course of business, including audits and
investigations by various governmental agencies that result from our work as a
governmental contractor. We are named as defendants in legal proceedings from
time to time and we may assert claims from time to time. Management is of the
opinion that any liability or loss associated with such matters, either
individually or in the aggregate, will not have a material adverse effect on the
Company’s operations and liquidity.
 
 12.
Segment Information:
 
 The
Company reports operating results and financial data for two reporting segments:
Defense Solutions Group (DSG) and Public Safety, Security and Industrial Systems
Group (PSSIG). DSG provides engineering, technical, and financial and management
services primarily to U.S. Government customers. Revenues in the PSSIG include
products and equipment sales, software, engineering and installation services
for industrial and commercial customers as well as government
customers.
 
 The
Company’s revenues are derived primarily from engineering and technical
services, but also included product sales.  For the three and six
months ended December 28, 2007, the product revenues represented 7.8% and 10.1%,
respectively of total revenues, compared to 9.3% and 8.4%, respectively, of the
comparable periods in fiscal 2007.
 
 Sales to
government agencies, including both defense and non-defense agencies, and sales
as a subcontractor as well as direct sales, aggregated approximately $16.1
million (89%) and $34.7 million (90%) of consolidated revenues in the
three and six months ended December 28, 2007, respectively. No single
contract or individual customer accounted for more than 10% of total revenue for
the three and six months ended December 28, 2007 and December 29, 2006,
respectively.
 
 Selected
financial data by segment is as follows (in thousands):
  Three
      Months Ended
              
              
              Six
      Months EndedDecember
      28,
              
              
              December
      29,
              
              
              December
      28,
              
              
              December
      29,2007
              
              
              2006
              
              
              2007
              
              
              2006Revenue:DSG
              
              $
              9,846
              
              
              $
              12,508
              
              
              $
              22,079
              
              
              $
              24,868PSSIG
              
              
              8,275
              
              
              
              6,708
              
              
              
              16,552
              
              
              
              10,591Totals
              
              $
              18,121
              
              
              $
              19,216
              
              
              $
              38,631
              
              
              $
              35,459Income
      (loss) from operations:DSG
              
              $
              96
              
              
              $
              373
              
              
              $
              668
              
              
              $
              918PSSIG
              
              
              9
              
              
              
              (588
              )
              
              
              582
              
              
              
              (1,355
              )Totals
              
              $
              105
              
              
              $
              (215
              )
              
              $
              1,250
              
              
              $
              (437
              )
 
  13
  
 
 Item
2.                 Management’s Discussion and
Analysis of
Financial Condition and Results of Operations
 
 To
the extent that the information presented in this Quarterly Report on Form 10-Q
discusses financial projections, information or expectations about our business
plans, results of operations, products or markets, or otherwise makes statements
about future events, such statements are forward-looking.  Such
forward-looking statements can be identified by the use of words such as
“intends”, “anticipates”, “believes”, “estimates”, “projects”, “forecasts”,
“expects”, “plans” and “proposes”.
 
 Although
we believe that the expectations reflected in the forward-looking statements are
reasonable, we cannot guarantee future results, levels of activity, performance
or achievements. Moreover, neither we, nor any other person, assume
responsibility for the accuracy and completeness of the forward-looking
statements. We are under no obligation to update any of the forward-looking
statements after the filing of this Quarterly Report on Form 10-Q to conform
such statements to actual results or to changes in our
expectations.
 
 The
following discussion should be read in conjunction with our unaudited condensed
consolidated financial statements and the related notes and other financial
information appearing elsewhere in this Form 10-Q. Readers are also urged to
review and consider the various disclosures made by us which advise interested
parties of the factors which affect our business, including without limitation
the disclosures made under the caption “Management’s Discussion and Analysis of
Financial Condition and Results of Operations,” under the caption “Risks Related
to Our Business,” and in the audited consolidated financial statements and
related notes included in our Annual Report filed on Form 10-K for the year
ended June 30, 2007 and other reports and filings made with the Securities and
Exchange Commission.
 
 Overview
 
 Revenues
and profits for the three and six months ended December 28, 2007 were
significantly impacted by three major themes. First, our mix of revenues has
continued to change as a result of products based revenues during the six month
period growing from 8% of revenues in 2006 to 10% in 2007 which has directly
resulted in our overall gross margins growing from 23.3% in 2006 to 26.4% in
2007. Second, while our services based revenues have been impacted by both
funding delays and program reductions, we have had year over year growth in our
services business. Third, our operating costs and expenses, primarily selling,
general and administrative expenses (S,G&A), on a sequential quarterly
basis, has decreased by  approximately $1.1 million in the first and
second quarters of the current fiscal year compared to the fourth quarter of
fiscal 2007.  The decreases in these expenses combined  with
increased gross margins has resulted in improved profitability.
 
 Our
business areas that encompass engineering and program management services have
been in a continuous slow decline for the past five years while during this same
period our C4ISR (Command, Control, Communications, Computing, Intelligence,
Surveillance and Reconnaissance) business has steadily grown. We anticipate that
this trend of decreases in engineering and program management will continue as
the Department of Defense continues to implement their information
transformation strategy focusing on enhanced information technology and
communications systems, data acquisition and real time situational
awareness.
 
 Our cost
of revenues is affected by the mix of contract types (cost reimbursement,
fixed-price or time and materials) as well as the mix of prime contracts versus
subcontracts and the mix of product sales revenue versus services revenue.
Significant portions of our contracts are time and materials and cost
reimbursement contracts. We are reimbursed for labor hours at negotiated hourly
billing rates and other direct expenses under time and materials contracts and
reimbursed for all actual costs, plus a fee, or profit, under cost reimbursement
contracts. The financial risks under these contracts are generally lower than
those associated with other types of contracts, and margins are also typically
lower than those on fixed-price contracts. The U.S. Government also has awarded
us fixed-price contracts. Such contracts carry higher financial risks because we
must deliver the products, systems or contract services at a cost below the
fixed contract value in order to earn a profit.
   14
  
 The
following table shows our revenues from each of these types of contracts as a
percentage of our total contracts based revenues for the three and six months
ended December 28, 2007 and December 29, 2006:
 
 Three
      Months Ended
              
              
              Six
      months Ended2007
              
              
              2006
              
              
              2007
              
              
              2006Cost
      reimbursable
              
              
              75
              %
              
              
              79
              %
              
              
              76
              %
              
              
              77
              %Time
      and materials
              
              
              16
              %
              
              
              15
              %
              
              
              16
              %
              
              
              18
              %Fixed
      price
              
              
              9
              %
              
              
              6
              %
              
              
              8
              %
              
              
              5
              %Total
              
              
              100
              %
              
              
              100
              %
              
              
              100
              %
              
              
              100
              %
 
  Total
backlog as of December 28, 2007 was $40.2 million, of which $24.0 million was
funded and $16.2 million had been ordered, but not yet funded. Total backlog as
of December 29, 2006 was $43.5 million, of which $30.0 million was funded and
$13.5 million had been ordered, but not yet funded.
 
   Results
of Operations
 
 The
following table sets forth selected items, including consolidated revenues for
the three and six months ended December 28, 2007 and December 29,
2006:
 
 Three
      Months Ended
              
              
              Six
      Months Ended2007
              
              
              Percent
              
              
              2006
              
              
              Percent
              
              
              2007
              
              
              Percent
              
              
              2006
              
              
              PercentRevenues
              
              $
              18,121
              
              
              
              100.0
              %
              
              $
              19,216
              
              
              
              100.0
              %
              
              $
              38,631
              
              
              
              100.0
              %
              
              $
              35,459
              
              
              
              100.0
              %Costs
      of revenues
              
              
              13,517
              
              
              
              74.6
              %
              
              
              14,655
              
              
              
              76.3
              %
              
              
              28,417
              
              
              
              73.6
              %
              
              
              27,185
              
              
              
              76.7
              %Selling,
      general & administrative
              
              
              3,373
              
              
              
              18.6
              %
              
              
              3,666
              
              
              
              19.1
              %
              
              
              6,750
              
              
              
              17.5
              %
              
              
              6,720
              
              
              
              19.0
              %Research,
      engineering and development
              
              
              1,126
              
              
              
              6.2
              %
              
              
              1,110
              
              
              
              5.8
              %
              
              
              2,214
              
              
              
              5.7
              %
              
              
              1,991
              
              
              
              5.6
              %Income
      (loss) from operations
              
              
              105
              
              
              
              0.6
              %
              
              
              (215
              )
              
              
              (1.1
              )%
              
              
              1,250
              
              
              
              3.2
              %
              
              
              (437
              )
              
              
              (1.2
              )%Other
      expense (income)
              
              
              37
              
              
              
              0.2
              %
              
              
              162
              
              
              
              0.8
              %
              
              
              126
              
              
              
              0.3
              %
              
              
              322
              
              
              
              0.9
              %Income
      tax provision (benefit)
              
              
              23
              
              
              
              0.1
              %
              
              
              (35
              )
              
              
              (0.2
              )%
              
              
              552
              
              
              
              1.4
              %
              
              
              (302
              )
              
              
              (0.9
              )%
 
 Revenues.  For the three
months ended December 28, 2007, revenues were $18.1 million, a decrease of $1.1
million or 5.7% compared to the same period in fiscal 2007. The decrease in
revenues consisted of a $0.9 million decrease in service related revenues and a
$0.4 million decrease in product related revenues, which were partially offset
by an increase of $0.2 million of acquisition revenues related to Ai Metrix
(acquired in October 2006). The decrease in services related revenues was
primarily attributable to decreases in certain software engineering and IT
support programs that were partially offset by growth in learning and
performance training solutions and in public safety solutions.  For
the six months ended December 28, 2007, revenues were $38.6 million, an increase
of $3.2 million or 8.9% compared to the same period in fiscal
2007.  The increase in revenues was attributable to $2.6 million of
acquisition revenues related to Ai Metrix and $0.6 million of net increases in
other products and services.
 
 Revenues
by reportable segment for the three and six months ended December 28, 2007 and
December 29, 2006 were as follows (in thousands):
 
 Three
      Months Ended
              
              
              Six
      Months Ended2007
              
              
              2006
              
              
              Change
              
              
              %
              
              
              2007
              
              
              2006
              
              
              Change
              
              
              %DSG
              
              $
              9,846
              
              
              $
              12,508
              
              
              $
              (2,662
              )
              
              
              (21.3
              )%
              
              $
              22,079
              
              
              $
              24,868
              
              
              $
              (2,789
              )
              
              
              (11.2
              )%PSSIG
              
              
              8,275
              
              
              
              6,708
              
              
              
              1,567
              
              
              
              23.4
              %
              
              
              16,552
              
              
              
              10,591
              
              
              
              5,961
              
              
              
              56.3
              %Total
      revenues
              
              $
              18,121
              
              
              $
              19,216
              
              
              $
              (1,095
              )
              
              
              (5.7
              )%
              
              $
              38,631
              
              
              $
              35,459
              
              
              $
              3,172
              
              
              
              8.9
              %
 
 The
decline in the DSG segment revenue of $2.7 million and $2.8 million in the three
and six month periods, respectively, is primarily attributable to decreases in
certain engineering services and IT support programs that were partially offset
by growth in enterprise solutions services.
 
 The
growth in the PSSIG segment revenue of $1.6 million and $6.0 million for the
three and six month periods, respectively, is attributable to the acquisition of
Ai Metrix which added $0.2 million and $2.6 million of revenues in the three and
six month periods respectively, and growth in network management services,
learning and performance training solutions, and public safety solutions, which
combined contributed increased revenues of $1.4 million and $3.4 million in the
three and six month periods, respectively.
 
 15
 Costs of revenue.  Costs
of revenue for services includes all direct costs such as labor, materials and
subcontractor costs.  Costs of revenue for services also includes indirect
overhead costs such as facilities, indirect labor, fringe benefits and other
discretionary costs which are pooled and allocated to contracts on a pro rata
basis. Generally, changes in direct costs for services are correlated to changes
in revenue as resources are consumed in the production of that revenue. Costs of
revenue for products includes the direct costs and manufacturing indirect
expenses associated with manufacturing our products.
 
 As a
percentage of revenue, costs of revenue were 74.6% for the three months ended
December 28, 2007 compared to 76.3% for the same period in fiscal 2007 resulting
in gross margins of 25.4% and 23.7%, respectively. For the six months ended
December 28, 2007 costs of revenue were 73.6% compared to 76.7% for the same
period in fiscal 2007 resulting in gross margins of 26.4% and 23.3%,
respectively.  During the three months ended December 28, 2007, the
growth in the gross margin resulted from higher margins from services revenues
which were 23.0% as compared to 19.5% in the prior year as a result of an
increase in the gross margins on certain time and material
contracts.  During the six months ended December 28, 2007 the increase
in gross margins was the result of increased product sales that carry a higher
gross margin than do our services together with the increased services margins
previously discussed.
 
 Selling, general and administrative
expenses.  Selling, general and administrative expenses (SG&A)
include labor, fringe benefits, sales and marketing, bid and proposal (B&P)
and other indirect costs. SG&A expenses decreased approximately $0.3 million
or 8.0%, to $3.4 million in the three months ended December 28, 2007 compared to
the same period in fiscal 2007. For the six months ended December 28, 2007,
there was essentially no change to SG&A expenses compared to the same period
in fiscal 2007.  The decrease in SG&A during the three month
period is primarily attributable to personnel reductions that were implemented
at the end of FY07.
 
 Research,
engineering and development expenses. Research, engineering and development
(R&D) expenses include burdened labor and material costs to develop new
products as well as maintaining and enhancing our existing product capabilities.
During the three months ended December 28, 2007, there was essentially no change
to R&D expenses compared to the same period in fiscal 2007. During the six
months ended December 28, 2007, R&D expenses increased approximately $.2
million or 11.2% compared to the same period in fiscal 2007. The increase in
these expenses is primarily attributable to research and development as well as
sustaining engineering related to our network security and management product
lines that were partially offset by decreases in our IP video and data
distribution product lines.
 
 Income (loss) from operations. The Company had income from operations of approximately $0.1
million in the three months ended December 28, 2007 compared to a loss from
operations of approximately $0.2 million in the same period in fiscal
2007.  For the six months ended December 28, 2007, the Company had
income from operations of approximately $1.2 million compared to a loss of
approximately $0.4 million for the same period in fiscal 2007.  The
increase in income from operations is primarily due to the increase in gross
margins from our product sales.
 
 Income
(loss) from operations includes share-based compensation expense of
approximately $0.1 million and $0.2 million for the three and six month periods
ended December 28, 2007, respectively and the same amounts for each of these
same periods in fiscal 2007. These expenses include non-cash expenses associated
with stock options granted to employees, the employee stock purchase
plan.  The recognition of these share-based compensation expenses is
in accordance with SFAS 123R, which was adopted as of the beginning of the
fiscal 2006.
 
 Other (income) expense. Other
(income) expense includes interest expense on our outstanding convertible notes
and borrowings made under our credit facility and interest and other income.
Other expense was approximately $0.1 million in the three months ended December
28, 2007 compared to $0.2 million in the same period in fiscal 2007 and $0.1
million for the six months ended December 28, 2007 compared to $0.3 million for
the same period in fiscal 2007. The decrease in other expense is due primarily
to a decrease in interest expense related to a reduction of approximately $2.1
million in convertible notes that matured and were converted to stock or paid
down in cash during the prior fiscal year.
 
 Income tax provision
(benefit)..  Our effective tax rates were 33.8% and 49.1% for
three and six month periods ended December 28, 2007, respectively, compared to
9.3% and 39.8% for the comparable periods in fiscal 2007, respectively. Our
effective tax rate is directly affected by share-based compensation expenses
related to SFAS 123R, which are not deductible for tax purposes, but which are
considered in estimating the annual effective tax rate as well as our forecast
of annual income before taxes. These factors can lead to large fluctuations in
the estimated effective tax rate from quarter to quarter. The 33.8% effective
tax rate for the three month period ended December 28, 2007 was the result of
revising the estimated annual effective tax rate to 49.1% from the 50.1% rate
used at September 28, 2007.  The 9.3% effective tax rate for the three
month period ended December 29, 2006 was the result of revising our estimated
annual effective tax rate used for fiscal 2007 from the 69.9% rate estimated at
September 29, 2006 to the 39.8% rate estimated at December 29,
2006.
 
 16
 Liquidity and Capital
Resources
 
 Historically,
we have financed our operations and met our capital expenditure requirements
through cash flows provided from operations, long-term borrowings (including the
sale of convertible notes), sales of equity securities and the use of our line
of credit. The significant components of our working capital are liquid assets
such as cash, trade accounts receivable, inventories and income taxes
receivable, reduced by accounts payable, accrued expenses, line of credit, the
current portion of our term note, the current portion of our convertible notes
payable, the current portion of our deferred tax liabilities and deferred
revenue. Working capital was $10.7 million at December 28, 2007 compared to $8.2
million at June 30, 2007.
 
 Cash flows from operating
activities.  Cash flows used in operating activities were
approximately $1.5 million for the six months ended December 28, 2007 compared
to cash flows provided from operating activities of $0.4 million for the same
period in fiscal 2007.  The increased use of cash in the current
fiscal year was attributable to: (i) a significant amount of liabilities for
subcontractor and other trade payables and incentive compensation accrued at the
end of fiscal 2007 that were paid during the first quarter of fiscal 2008 and
(ii) an increase in the percentage of our accounts receivable in the 60 to 90
day category which drove our DSO’s from an average of 75 days to 90 days during
the second quarter. A significant portion of those receivables were collected
subsequent to the end of the quarter.
 
 Cash flows from investing
activities.  Cash flows used in investing activities were
approximately $0.5 million in the six months ended December 28, 2007 compared to
$0.2 million for the same fiscal period in 2007.  The primary reason
for the increase of cash related to financing activities in the current fiscal
year relates to approximately $0.2 million of cash from Ai Metrix that exceeded
acquisition costs when acquired in October 2007, which partially offset other
cash used in investing activities in the prior fiscal year.
 
 Cash flows from financing
activities.  Cash flows provided by financing activities were
approximately $1.4 million in the six months ended December 28, 2007 compared to
$0.9 million in the same period in fiscal 2007. The increase was due primarily
to borrowings exceeding payments on our credit facility in the current fiscal
year.
 
 One of
our regular sources of liquidity is our revolving line of credit facility with
Comerica for $4.0 million, which expires on December 28, 2008.  The
outstanding balance on our revolving $4.0 million line of credit at December 28,
2007 was $1.1 million.  The Company’s $4.0 million revolving line of
credit facility allows SYS to use (i) the full $4.0 million for working capital
purposes or (ii) under a Sub Facility, up to $2.0 million of the credit facility
for permitted acquisition purposes and $750,000 for minority investment
purposes. The line of credit is subject to certain restrictions on permitted
acquisitions and minority investments, and in some cases, we must receive the
lender’s consent prior to using the facility for such purposes. If used for
permitted acquisitions or minority investments, these advances must be repaid
over 48 months.
 
 During
fiscal 2006, in connection with the purchase of RBIS, we utilized $1.0 million
of this line for payment of a portion of the purchase consideration. In
accordance with the terms of the credit facility, the $1.0 million was converted
to a term note effective June 10, 2006. The term note is payable in monthly
installments of $20,833 plus interest for fiscal years 2007 through 2010, with
payments beginning October, 2006. In June 2007, the Company elected to pre-pay
principal of $0.25 million which represented the amount of principal due for the
next twelve months. The balance of the term note as of December 28, 2007 was
$0.5 million, of which $0.1 million is classified as a current liability. A
total of $0.25 million of principal amounts of this note are due annually in
fiscal years 2009 and 2010. The outstanding balance related to the Sub Facility
reduces the maximum borrowings available under the line of credit. As a result,
as of December 28, 2007, the maximum borrowing under the line of credit was $3.5
million and the remaining available borrowing capacity on the line of credit was
approximately $2.4 million.
 
 On
September 27, 2006, SYS and the lender agreed to amend the terms of the line of
credit to eliminate the minimum quarterly net income covenant and the ratio of
senior debt to EBITDA covenant and modify the tangible effective net worth
covenant and cash flow coverage ratio covenant.
 
 We have
the option of being charged prime plus 0.25% or LIBOR plus 300 basis points on
the credit facility and prime plus 0.50% or LIBOR plus 325 basis points on the
sub facility subject to minimum advance amounts and duration under the LIBOR
option. The loan is collateralized by all of our assets including accounts
receivable. Borrowings are limited to 80% of our billed accounts receivable that
are less than 90 days old.
 
 Management
believes that SYS will have sufficient cash flow from operations and funds
available under the revolving credit agreement to finance its operating and
capital requirements for at least the next twelve months.
 
 17
 Long-term
liquidity and continued acquisition related growth will depend on our ability to
manage cash, raise cash through debt and equity financing transactions and
maintain profitability. We may seek to raise additional capital from time to
time as market conditions permit and subject to Board approval. Our losses in
the two prior fiscal years may impact our ability to raise capital.
 
 In
January 2008, the Internal Revenue Service (IRS) completed its examination of
the Company’s U.S. income tax returns for fiscal years ended June 30, 2004
through June 30, 2006.  The Company has agreed to IRS adjustments to
reverse the acceleration of the deduction of certain expenses incurred in a
subsequent year for the tax years under audit resulting in a payment in January
2008 for taxes of $483,000.  This amount was included in the income
taxes payable as of June 30, 2007 and December 28, 2007.
 
 Commitments
(amounts in thousands)
  Total
              
              
              2008
      (2)
              
              
              2009
              
              
              2010
              
              
              2011
              
              
              2012
              
              
              ThereafterConvertible
      notes (1)
              
              $
              3,476
              
              
              $
              156
              
              
              $
              3,320
              
              
              $
              --
              
              
              $
              --
              
              
              $
              --
              
              
              $
              --Note
      payable (1)
              
              
              560
              
              
              
              20
              
              
              
              280
              
              
              
              260
              
              
              
              --
              
              
              
              --
              
              
              
              --Capital
      leases (1)
              
              
              68
              
              
              
              11
              
              
              
              22
              
              
              
              22
              
              
              
              13
              
              
              
              --
              
              
              
              --Operating
      leases
              
              
              3,738
              
              
              
              1,007
              
              
              
              1,351
              
              
              
              545
              
              
              
              460
              
              
              
              350
              
              
              
              25Total
              
              $
              7,842
              
              
              $
              1,194
              
              
              $
              4,973
              
              
              $
              827
              
              
              $
              473
              
              
              $
              350
              
              
              $
              25
  (1) Includes
principal and interest.
 (2) Six months ending
June 30, 2008.
 
 Off-Balance
Sheet Arrangements
 
 SYS does
not have anyoff balance sheet arrangements, investments in special
purpose entities or undisclosed borrowings or debt. In addition, SYS has not
entered into any derivative contracts.
 
 Recent Accounting
Pronouncements
 
  In
December 2007, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 141 (revised
2007), Business
Combinations, which replaces SFAS No 141. The statement retains the
purchase method of accounting for acquisitions, but requires a number of
changes, including changes in the way assets and liabilities are recognized in
the purchase accounting. It also changes the recognition of assets acquired and
liabilities assumed arising from contingencies, requires the capitalization of
in-process research and development at fair value, and requires the expensing of
acquisition-related costs as incurred. SFAS No. 141R is effective for us
beginning July 1, 2009 and will apply prospectively to business
combinations completed on or after that date.
 
 On
July 1, 2007, we adopted the provisions of the Financial Accounting
Standards Board (“FASB”) Interpretation No. 48 (“FIN 48”), Accounting for
Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109,
which provides a financial statement recognition threshold and measurement
attribute for a tax position taken or expected to be taken in a tax return.
Under FIN 48, we may recognize the tax benefit from an uncertain tax position
only if it is more likely than not that the tax position will be sustained on
examination by the taxing authorities, based on the technical merits of the
position. The tax benefits recognized in the financial statements from such a
position should be measured based on the largest benefit that has a greater than
50% likelihood of being realized upon ultimate settlement. FIN 48 also provides
guidance on derecognition of income tax assets and liabilities, classification
of current and deferred income tax assets and liabilities, accounting for
interest and penalties associated with tax positions, and income tax
disclosures. Upon adoption, we recognized a $19,000 charge to our beginning
retained deficit as a cumulative effect of a change in accounting principle. See
Note 10 – Income Tax (Part I, Item 1).
 
 18
 In
May 2007, the FASB issued FASB Staff Position (“FSP”) FIN 48-1 Definition
of Settlement in FASB Interpretation No. 48 (FSP FIN 48-1). FSP FIN 48-1
provides guidance on how to determine whether a tax position is effectively
settled for the purpose of recognizing previously unrecognized tax benefits. FSP
FIN 48-1 is effective for the Company beginning July 1, 2007. The
implementation of this standard had no significant impact on the Company’s
condensed consolidated financial statements.
 
 In
February 2007, the FASB issued Statement No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities, including an amendment of FASB
Statement No. 115 (“SFAS 159”). SFAS 159 permits entities to choose to measure
many financial instruments and certain other items at fair value that are not
currently required to be measured at fair value. SFAS 159 will be effective for
the Company beginning July 1, 2008. The Company is in the process of
determining the impact of this statement on its consolidated financial
statements.
 
 In
September 2006, the FASB issued Statement No. 157 (SFAS 157), Fair Value
Measurements. SFAS 157 prescribes a single definition of fair value as the price
that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date. The
accounting provisions of SFAS 157 will be effective for the Company beginning
July 1, 2008. The Company is in the process of determining the impact of this
statement on its consolidated financial statements.
 
 Critical
Accounting Policies and Estimates
 
 The
foregoing discussion of our financial condition and results of operations is
based on the consolidated financial statements included in this Form 10-Q, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these financial statements requires us
to make estimates and judgments that affect the reported amounts of assets,
liabilities, sales and expenses, and the related disclosures of contingencies.
We base these estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates.
  During
the six months ended December 28, 2007, there were no significant changes to the
critical accounting policies we disclosed in Management’s Discussion and
Analysis of Financial Condition and Results of Operations in our Annual Report
on Form 10-K for the year ended June 30, 2007.
 
 For
interim reporting purposes, SYS applies overhead and selling, general and
administrative expenses as a percentage of direct contract costs based on annual
budgeted indirect expense rates.  To the extent actual expenses for an
interim period are greater than the budgeted rates (unfavorable variance), the
variance is deferred if management believes it is probable that the variance
will be absorbed by future contract activity.  This probability
assessment includes projecting whether future indirect costs will be
sufficiently less than the annual budgeted rates or can be absorbed by seeking
increased billing rates applied on cost-plus-fee contracts.  At the
end of each interim reporting period, management assesses the recoverability of
any amount deferred to determine if any portion should be charged to
expense.  In assessing the recoverability of variances deferred,
management takes into consideration estimates of the amount of direct labor and
other direct costs to be incurred in future interim periods, the feasibility of
modifications for provisional billing rates, and the likelihood that an approved
increase in provisional billing rates can be passed along to a
customer.  Variances are charged to expense in the periods in which it
is determined that such amounts are not probable of recovery. As of December 28,
2007, the deferred unfavorable variance totaled $0.6 million.
 
  19
  
 ITEM
3. Quantitative and Qualitative Disclosures about Market Risk
 
 Our
exposure to market risk for changes in interest rates relates primarily to our
investment income and interest expense. As of December 28, 2007 our cash was
primarily invested in a money market interest bearing account. A hypothetical
10% adverse change in the average interest rate on our money market cash
investments would have had no material effect on our results of operations or
cash flows for the six months ended December 28, 2007. We currently do not
utilize any derivative financial instruments to hedge interest rate
risks.
 
 We have
interest rate risk in that borrowings under our line of credit and term note are
based on variable market interest rates. As of December 28, 2007, we had $1.1
million of variable rate debt outstanding under our revolving credit line and
$0.5 million outstanding under a term note.  Presently, the revolving
credit line bears interest at a rate of prime plus 0.25% and the term note bears
interest at a rate of prime plus 0.50%. A hypothetical 10% increase in the
weighted average interest rate on our combined line of credit and term note
would not have had a material impact to our results of operations or cash flows
for the six months ended December 28, 2007.
 
 Our
privately issued convertible notes have fixed interest rates of 10%, but have
exposure to changes in the debt’s fair value. We believe that the fair value of
our total outstanding convertible notes is approximately $1.8 million based on
the conversion prices of the notes and the closing price of our common stock on
December 28, 2007.
 
 ITEM
4. Controls and Procedures
 
 Evaluation
of Disclosure Controls and Procedures
  Our
management, with the participation of our Chief Executive Officer and Chief
Financial Officer, evaluated the effectiveness of our disclosure controls and
procedures as of December 28, 2007. The term “disclosure controls and
procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act,
means controls and other procedures of a company that are designed to ensure
that information required to be disclosed by a company in the reports that it
files or submits under the Exchange Act is recorded, processed, summarized and
reported, within the time periods specified in the SEC’s rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed by a
company in the reports that it files or submits under the Exchange Act is
accumulated and communicated to the company’s management, including its
principal executive and principal financial officer, as appropriate to allow
timely decisions regarding required disclosure. Based on the evaluation of our
disclosure controls and procedures as of December 28, 2007, our Chief Executive
Officer and Chief Financial Officer concluded that, as of such date, our
disclosure controls and procedures were effective.
 
 Limitations
on the Effectiveness of Internal Controls
 Management
recognizes that any controls and procedures, no matter how well designed and
operated, can provide only reasonable assurance of achieving their objectives,
and management necessarily applies its judgment in evaluating the cost-benefit
relationship of possible controls and procedures.
 
 Changes
in Internal Control Over Financial Reporting
 There has
been no change in our internal control over financial reporting during our most
recent fiscal quarter that has materially affected, or is reasonably likely to
materially affect, our internal control over financial
reporting.
  20
 
 PART II - OTHER
INFORMATION
  Item 1.Legal
Proceedings
 
 NONE
 
 Item 1A.Risk
Factors
 Other
than the items listed below, no material changes to our risk factors as reported
on our Form 10-K for the year ended June 30, 2007:
 
 There
are a large number of shares that are available for future sale, and the sale of
these shares may depress the market price of our common stock.
  As of
December 28, 2007, we had issued 19,674,343 shares of common stock. Up to
2,177,000 shares of common stock were issuable upon the exercise of employee
stock options at prices ranging from $1.75 to $4.90 per share, 868,000 shares
were issuable upon the conversion of convertible notes at $3.60 per share,
313,401 shares were issuable upon the exercise of warrants at $2.50 per share,
50,000 shares were issuable upon the exercise of warrants at $3.85 per share,
110,000 shares were issuable upon the exercise of warrants at $4.00 per share,
20,000 shares were issuable upon the exercise of warrants at $2.44 per share,
15,000 were issuable upon the exercise of warrants at $2.25 per share, and up to
3,475,613 shares were contingently issuable under earn-out provisions in various
acquisition transactions. Sales of shares issued upon any conversion of our
outstanding convertible notes or upon the exercise of outstanding options and
warrants could adversely affect the market price of our common
stock.
  Future
sales of our common stock by existing shareholders under Rule 144 could decrease
the trading price of our common stock.
  As of
December 28, 2007, a total of 7,466,577 shares of our outstanding common stock
were “restricted securities” and could be sold in the public markets only in
compliance with Rule 144 adopted under the Securities Act of 1933 or other
applicable exemptions from registration. Rule 144 provides that a person holding
restricted securities for a period of one year may thereafter sell, in brokerage
transactions, an amount not exceeding in any three-month period the greater of
either (i) 1% of the issuer’s outstanding common stock or (ii) the
average weekly trading volume in the securities during a period of four calendar
weeks immediately preceding the sale. Persons who are not affiliated with the
issuer and who have held their restricted securities for at least two years are
not subject to the volume limitation. Possible or actual sales of our common
stock by present shareholders under Rule 144 could have a depressive effect on
the price of our common stock.
  Our
directors, executive officers and affiliated persons beneficially own a
significant amount of our stock, and their interests could conflict with
yours.
  As of
December 28 2007, our directors, executive officers andaffiliated
persons beneficially own approximately 24% of our common stock, including stock
options exercisable within 60 days of December 28, 2007. As a result, our
executive officers, directors and affiliated persons will have a significant
ability to:
  ·
              elect
      or defeat the election of our
directors;
 ·
              amend
      or prevent amendment of our articles of incorporation or
      bylaws;
 ·
              effect
      or prevent a merger; sale of assets or other corporate transactions;
      and
 ·
              control
      the outcome of any other matters submitted to the shareholders for
      vote.
 
 As a
result of their ownership and positions, our directors, executive officers, and
affiliated persons, collectively, are able to significantly influence all
matters requiring shareholder approval, including the election of directors and
approval of significant corporate transactions. In addition, sales of
significant amounts of shares held by our directors and executive officers and
affiliated persons, or the prospect of these sales, could adversely affect the
market price of our common stock. Management’s stock ownership may discourage a
potential acquirer from making a tender offer or otherwise attempting to obtain
control of us, which in turn could reduce our stock price or prevent our
shareholders from realizing a premium over our stock price.
  21
 
 Item 2.Unregistered Sales Of Equity
Securities And Use Of Proceeds.
 
 On
      September 18, 2007, the Company issued a warrant to a consultant for
      services to be performed that are exercisable into 15,000 shares of the
      Company’s common stock at an exercise price of $2.25 per
      share.  The warrant became fully vested on December 31, 2007 and
      expires September 18, 2012.
  Item 3.Defaults Upon Senior
Securities
 
 None.
 
 Item 4.Submission of Matters to a
Vote of Securities Holders
 
 On
      December 7, 2007, the Company held its 2007 Annual Meeting of
      Shareholders. There were 19,972,328 shares eligible as of the record date
      and 16,013,692 shares were represented either in person or by proxy at the
      meeting. The following matters were voted on at the
    meeting:
 
 (a.)
      Proposal to elect Directors:
 .
 Votes For
              
              
              Votes AgainstClifton
      L. Cooke, Jr.
              
              
              15,020,064
              
              
              
              993,628General
      Al Gray, USMC (Ret.)
              
              
              15,038,482
              
              
              
              975,210John
      R. Hicks
              
              
              15,004,597
              
              
              
              1,009,095Gail
      K. Naughton
              
              
              14,887,777
              
              
              
              1,125,915Thomas
      A. Page
              
              
              15,259,208
              
              
              
              754,484Philip
      P. Trahanas
              
              
              14,955,463
              
              
              
              1,058,229Charles
      E. Vandeveer
              
              
              14,331,343
              
              
              
              1,682,349
 
 (b.)
      Proposal to approve the appointment of Grant Thornton LLP as the
      independent registered public accounting firm for the corporation for its
      2008 fiscal year.  This proposal was approved with 15,347,973 shares
      voting in favor, 475,552 shares voting against, and 190,166 shares
      abstaining.
 
 (c.)
      Proposal to amend the SYS Technologies, Inc. 2003 Employee Stock Purchase
      Plan to increase the number of shares of common stock subject to such plan
      from 1,000,000 to 2,000,000.  This proposal was approved with
      9,913,458 shares voting in favor, 349,023 shares voting against, and
      195,810 shares abstaining.
 
 Item 5.Other
Information
 
 At the Annual Board of
Directors meeting held on December 7, 2007, the following people were elected as
Chairman and officers of the Company:
 
 Alfred
      M. Gray
              ChairmanJohn
      R. Hicks
              Vice-ChairmanClifton
      L. Cooke, Jr.
              President
      and Chief Executive OfficerEdward M. Lake
              Chief
      Financial OfficerMichael
      W. Fink
              SecretaryRobert
      A. Babbush
              Assistant
      Secretary
 
 At the
Annual Board of Directors meeting held on December 7, 2007, the following people
were elected as members of the following Directors’ Committees:
 
 Audit
      CommitteeThomas
      A. Page, ChairmanJohn
      R. HicksGail
      NaughtonCompensation
      CommitteeJohn
      R. Hicks , ChairmanGail
      K. NaughtonCharles
      E. Vandeveer
 
 The
Company changed the plan administrator for its 401(k) Plan (the Plan) during the
quarter ended December 28, 2007.  The Company has the option of funding its
match (the Match) of employees’ contributions to the Plan with either newly
issued shares of SYS common stock or with cash that the Plan administrator uses
to purchase shares of SYS common stock on the open market.  In the recent
past, the Company has funded the Match predominately
with Companystock. Subsequent to December 28, 2007, the Company has
elected to fund the Match with cash, which commencing February 2008, the Plan
administrator has used to purchase shares of SYS common stock on the open
market.
 22
  
 Item 6.Exhibits
 
 Those
      exhibits marked with a (*) refer to exhibits filed herewith. The other
      exhibits are incorporated herein by reference, as indicated in the
      following list. Those exhibits marked with a (†) refer to management
      contracts or compensatory plans or
arrangements.
 
 Ex
      No.
              Description2.1
              Certificate
      of Ownership filed with the California Secretary of State on November 28,
      1979, filed as Exhibit 2.1 to SYS’s report on Form 10-K for the fiscal
      year ended June 30, 1979 and incorporated by this
    reference.2.2
              Certificate
      of Ownership filed with the California Secretary of State on March 18,
      1985, incident to change of name of SYS, filed as Exhibit 3.6 to SYS’s
      report on Form 10-K for the fiscal year ended June 30, 1985 and
      incorporated by this reference.2.3
              Testmasters,
      Inc. Stock Purchase Agreement, filed as Exhibit 2.1 to SYS’s Registration
      Statement on Form SB-2 dated May 24, 2002 (Commission file No. 333-88988),
      and incorporated by this reference.2.4
              Polexis
      merger agreement, filed as Exhibit 2.2 to SYS’s Registration Statement on
      Form SB-2 dated April 19, 2004 (Commission file No. 333-114606 ), and
      incorporated by this reference.2.5
              Asset
      Purchase and Sale Agreement effective as of December 15, 2004, by and
      between SYS and Xsilogy, Inc filed as Exhibit 2.5 to SYS’s report on Form
      10-QSB filed February 7, 2005 (Commission file No. 001-32397), and
      incorporated by this reference.2.6
              Agreement
      and plan of merger effective as of January 3, 2005 among SYS, Shadow I,
      Inc., a wholly-owned subsidiary of SYS, Antin Engineering, Inc., and the
      stockholders of Antin Engineering, Inc. filed as Exhibit 2.6 to SYS’s
      report on Form 10-QSB filed February 7, 2005 (Commission file No.
      001-32397), and incorporated by this reference.2.7
              Agreement
      and Plan of Merger effective as of November 7, 2005 among SYS, Shadow II,
      Inc., a wholly owned subsidiary of SYS, Logic Innovations, Inc. and the
      stockholders of Logic Innovations, Inc., filed as Exhibit 2.7 to SYS’s
      report on Form 10-Q for the quarter ended December 30, 2005 (Commission
      file No. 001-32397), and incorporated by this
reference.2.8
              Asset
      Purchase and Sale Agreement effective December 2, 2005 among SYS, cVideo,
      Inc. and certain of the stockholders of cVideo, Inc., filed as Exhibit 2.8
      to SYS’s report on From 10-Q for the quarterly period ended December 30,
      2005 (Commission file No. 001-32397), and incorporated by this
      reference.2.9
              Stock
      Purchase Agreement effective as of April 2, 2006, between SYS and Gary E.
      Murphy (the sole stockholder of Reality Based IT Services, Ltd.), filed as
      Exhibit 2.9 to SYS’s Form 8-K filed April 6, 2006 (Commission file No.
      001-32397), and incorporated by this reference.2.10
              Agreement
      and Plan of Merger Dated as of October 17, 2006 by and among SYS, Shadow
      IV, Inc., Ai Metrix, Inc., the Majority Stockholders of Ai Metrix, Inc.,
      and Victor E. Parker, as the Stockholder Representative, filed as Exhibit
      2.9 to SYS’s Form 8-K filed October 18, 2006 (Commission file No.
      001-32397), and incorporated by this reference.3.1
              Articles
      of Incorporation for SYS, as amended, filed as Exhibit 3.1 to SYS’s
      Registration Statement on Form SB-2, filed May 24, 2002 (Commission file
      No. 333-88988 ), and incorporated by this reference.3.2
              Bylaws
      of SYS incorporated by reference SYS’s Registration Statement on Form SB-2
      filed on May 24, 2002 (Commission file No. 333-88988 ), and incorporated
      by this reference.4.1
              Certificate
      of Determination of Preferences of Preferred Shares of Systems Associates,
      Inc., filed by SYS with the California Secretary of State on July 28,
      1968, filed as Exhibit 3.2 to SYS’s report on Form 10-K for the fiscal
      year ended June 30, 1981 and incorporated by this
    reference.4.2
              Certificate
      of Determination of Preferences of Preference Shares of Systems
      Associates, Inc., filed by SYS with the California Secretary of State on
      December 27, 1968, filed as Exhibit 3.3 to SYS’s report on Form 10-K for
      the fiscal year ended June 30, 1981 and incorporated by this
      reference.4.3
              Certificate
      of Determination of Series B 9% Cumulative Convertible Callable Non-Voting
      Preference Stock was filed by SYS with the California Secretary of State
      on August 15, 1996, and included in Exhibit 3.1 to SYS’s Registration
      Statement on Form SB-2, filed May 24, 2002 (Commission file No.
      333-88988), and incorporated by this reference.4.4
              Form
      of Subscription Agreement from the January 2002 Offering, filed as Exhibit
      4.1 to SYS’s Registration Statement on Form SB-2 dated May 24, 2002
      (Commission file No. 333-88988), and incorporated by this
      reference.4.5
              Form
      of Convertible Note from the January 2002 Offering, filed as Exhibit 4.2
      to SYS’s Registration Statement on Form SB-2 dated May 24, 2002
      (Commission file No. 333-88988).4.6
              Form
      of Subscription Agreement from the February 2004 Offering (Convertible
      Note from December 2003 Offering included), filed as Exhibit 4.3 to SYS’s
      Registration Statement on Form SB-2 dated April 19, 2004 (Commission file
      No. 333-114606), and incorporated by this reference.4.7
              Securities
      Purchase Agreement, from the May 27, 2005 offering, by and among SYS and
      the investor parties as identified on the signature pages thereto, filed
      as exhibit 10.1 to SYS’s Form 8-K filed on June 3, 2005 (Commission file
      No. 001-32397), and incorporated by this reference.4.8
              Registration
      Rights Agreement, from the May 27, 2005, by and among SYS and the investor
      parties as identified on the signature pages thereto, filed as exhibit
      10.3 to SYS’s Form 8-K filed on June 3, 2005 (Commission file No.
      001-32397), and incorporated by this
reference.
   23
  Ex
      No.
              Description4.9
              Form
      of Warrant to be issued by SYS to the investors in connection with the
      Securities Purchase Agreement from May 27, 2005 Offering, filed as exhibit
      10.2 to SYS’s Form 8-K filed on June 3, 2005 (Commission file No.
      001-32397), and incorporated by this reference.4.10
              Restricted
      stock purchase agreement between SYS and Ben Goodwin dated August 16,
      2005, filed as Exhibit 99.1 to SYS’s report on Form 8-K filed August 18,
      2005 (Commission file No. 001-32397), and incorporated by this
      reference.4.11
              Form
      of Subscription Agreement from the Company’s February 14, 2006 Offering,
      filed as Exhibit 99.1 to SYS’s report on Form 8-K filed February 17, 2006
      (Commission file No. 001-32397), and incorporated by this
      reference.4.12
              Form
      of Unsecured Subordinated Convertible Note from SYS’s February 14, 2006
      Offering, filed as Exhibit 99.2 to SYS’s report on Form 8-K filed February
      17, 2006 (Commission file No. 001-32397), and incorporated by this
      reference.4.13
              Form
      of Subordination Agreement from SYS’s February 14, 2006 Offering, filed as
      Exhibit 99.3 to SYS’s report on Form 8-K filed February 17, 2006
      (Commission file No. 001-32397), and incorporated by this
      reference.10.1†
              SYS
      1997 Incentive Stock Option and Restricted Stock Plan filed as Attachment
      1 to SYS’s Proxy Statement filed on February 21, 1997 (Commission file No.
      000-04169), and incorporated by this reference.10.2†
              SYS
      2003 Stock Option Plan filed as Exhibit 10.2 to SYS’s report on Form S-8
      filed on April 8, 2003 (Commission file No. 333-104372), and incorporated
      by this reference.10.3†
              SYS
      2003 Employee Stock Purchase Plan filed as Exhibit 10.3 to SYS’s report on
      Form S-8 filed on April 8, 2003 (Commission file No. 333-104372), and
      incorporated by this reference.10.4†
              Employment
      contract for Clifton L. Cooke, Jr., SYS’s Chief Executive Officer filed as
      Exhibit 10.4 to SYS’s report on Form 10-Q for the quarter ended September
      30, 2006, filed on November 13, 2006 (Commission file No. 001-32397), and
      incorporated by this reference.10.5†
              Employment
      contract for Edward M. Lake, SYS’s Chief Financial Officer and Executive
      Vice President of Financial Operations filed as Exhibit 10.5 to SYS’s
      report on Form 10-Q for the quarter ended September 30, 2006, filed on
      November 13, 2006 (Commission file No. 001-32397), and incorporated by
      this reference.10.6†
              Employment
      contract for Michael W. Fink, SYS’s Secretary and Sr. Vice president of
      Finance and Contracts filed as Exhibit 10.6 to SYS’s report on Form 10-Q
      for the quarter ended September 30, 2006, filed on November 13, 2006
      (Commission file No. 001-32397), and incorporated by this
      reference.10.7†
              Employment
      contract for Kenneth D. Regan, SYS’s Defense Solutions Group’s President
      and Chief Operating Officer filed as Exhibit 10.7 to SYS’s report on Form
      10-Q for the quarter ended September 30, 2006, filed on November 13, 2006
      (Commission file No. 001-32397), and incorporated by this
      reference.10.8†
              Restricted
      stock purchase agreement between SYS and Ben Goodwin dated August 16,
      2005, filed as Exhibit 99.1 to SYS’s Form 8-K filed August 18, 2005
      (Commission file No. 001-32397), and incorporated by this
      reference.10.9†
              Employment
      contract for Ben Goodwin, SYS’s Senior Vice President of Sales and
      Marketing and President of the Public Safety, Security and Industrial
      Products Group filed as Exhibit 10.9 to SYS’s report on Form 10-Q for the
      quarter ended September 30, 2006, filed on November 13, 2006 (Commission
      file No. 001-32397), and incorporated by this
reference.10.10†
              Employment
      contract for Clifton L. Cooke, Jr., SYS’s Chief Executive Officer filed as
      Exhibit 10.10 to SYS’s report on Form 10-Q for the quarter ended September
      28, 2007, filed on November 12, 2007 (Commission file No. 001-32397), and
      incorporated by this reference..10.11†
              2007
      Restatement of SYS Technologies 401(k) Plan filed as Exhibit 10.11 to
      SYS’s report on Form 10-Q for the quarter ended September 28, 2007, filed
      on November 12, 2007 (Commission file No. 001-32397), and incorporated by
      this reference..21.1
              List
      of all subsidiaries of SYS incorporated by reference from Exhibit 21.1 of
      SYS’s report on Form 10-Q for the quarter ended September 30, 2006, filed
      on November 13, 2006 (Commission file No. 001-32397).31.1*
              Certification
      of Chief Executive Officer pursuant to Rule
      13a-14(a)/15d-14(a)31.2*
              Certification
      of Chief Financial Officer pursuant to Rule
      13a-14(a)/15d-14(a)32.1*
              Certification
      of Chief Executive Officer pursuant to Section 1350 of Title 18 of the
      United States Code32.2*
              Certification
      of Chief Financial Officer pursuant to Section 1350 of Title 18 of the
      United States Code
 
 
  24
  
  SIGNATURES
  In
accordance with the requirements of the Exchange Act, the registrant caused this
report to be signed on its behalf by the undersigned, thereunto duly
authorized.
   SYS(Registrant)Date:
              February
      11, 2008
              
              /s/
      Clifton L. Cooke, Jr.Clifton
      L. Cooke, Jr.Chief
      Executive OfficerDate:
              February
      11, 2008
              
              /s/
      Edward M. LakeEdward M. LakeChief
      Financial Officer
 
 
  25
  
 Exhibit
31.1
  CERTIFICATION
OF CHIEF EXECUTIVE OFFICER
  I,
Clifton L. Cooke, Jr., certify that:
  1.
      I have reviewed this Quarterly Report on Form 10-Q of
  SYS;
 
 2.
      Based on my knowledge, this report does not contain any untrue statement
      of a material fact or omit to state a material fact necessary to make the
      statements made, in light of the circumstances under which such statements
      were made, not misleading with respect to the period covered by this
      report;
 
 3.
      Based on my knowledge, the financial statements, and other financial
      information included in this report, fairly present in all material
      respects the financial condition, results of operations and cash flows of
      the registrant as of, and for, the periods presented in this
      report.
 
 4.
      The registrant’s other certifying officer(s) and I are responsible for
      establishing and maintaining disclosure controls and procedures (as
      defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
      and have:
 
 a)
      Designed such disclosure controls and procedures, or caused such
      disclosure controls and procedures to be designed under our supervision,
      to ensure that material information relating to the registrant, including
      its consolidated subsidiaries, is made known to us by others within those
      entities, particularly during the period in which this report is being
      prepared; and
 
 b)
      Evaluated the effectiveness of the registrant’s disclosure controls and
      procedures and presented in this report our conclusions about the
      effectiveness of the disclosure controls and procedures, as of the end of
      the period covered by this report based on such evaluation;
      and
 
 c) 
      Disclosed in this report any change in the registrant’s internal control
      over financial reporting that occurred during the registrant’s most recent
      fiscal quarter (the registrant’s fourth fiscal quarter in the case of an
      annual report) that has materially affected, or is reasonably likely to
      materially affect, the registrant’s internal control over financial
      reporting; and
 
 5.
      The registrant’s other certifying officer(s) and I have disclosed, based
      on our most recent evaluation of internal control over financial
      reporting, to the registrant’s auditors and the audit committee of
      registrant’s board of directors (or persons performing the equivalent
      functions):
 
 a) 
      All significant deficiencies and material weaknesses in the design or
      operation of internal control over financial reporting which are
      reasonably likely to adversely affect the registrant’s ability to record,
      process, summarize and report financial information;
  and
 
 b) 
      Any fraud, whether or not material, that involves management or other
      employees who have a significant role in the registrant’s internal control
      over financial reporting.
   Dated:
      February 11, 2008
              
              By:Clifton
      L. Cooke, Jr.Chief
      Executive Officer
 
 
  26
  
 Exhibit
31.2
  CERTIFICATION
OF CHIEF FINANCIAL OFFICER
  I,
Edward M. Lake, certify that:
  1.
      I have reviewed this Quarterly Report on Form 10-Q of
  SYS;
 
 2.
      Based on my knowledge, this report does not contain any untrue statement
      of a material fact or omit to state a material fact necessary to make the
      statements made, in light of the circumstances under which such statements
      were made, not misleading with respect to the period covered by this
      report;
 
 3.
      Based on my knowledge, the financial statements, and other financial
      information included in this report, fairly present in all material
      respects the financial condition, results of operations and cash flows of
      the registrant as of, and for, the periods presented in this
      report.
 
 4.
      The registrant’s other certifying officer(s) and I are responsible for
      establishing and maintaining disclosure controls and procedures (as
      defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
      and have:
 
 a)
      Designed such disclosure controls and procedures, or caused such
      disclosure controls and procedures to be designed under our supervision,
      to ensure that material information relating to the registrant, including
      its consolidated subsidiaries, is made known to us by others within those
      entities, particularly during the period in which this report is being
      prepared; and
 
 b)
      Evaluated the effectiveness of the registrant’s disclosure controls and
      procedures and presented in this report our conclusions about the
      effectiveness of the disclosure controls and procedures, as of the end of
      the period covered by this report based on such evaluation;
      and
 
 c)
      Disclosed in this report any change in the registrant’s internal control
      over financial reporting that occurred during the registrant’s most recent
      fiscal quarter (the registrant’s fourth fiscal quarter in the case of an
      annual report) that has materially affected, or is reasonably likely to
      materially affect, the registrant’s internal control over financial
      reporting; and
 
 5.
      The registrant’s other certifying officer(s) and I have disclosed, based
      on our most recent evaluation of internal control over financial
      reporting, to the registrant’s auditors and the audit committee of
      registrant’s board of directors (or persons performing the equivalent
      functions):
 
 a)
      All significant deficiencies and material weaknesses in the design or
      operation of internal control over financial reporting which are
      reasonably likely to adversely affect the registrant’s ability to record,
      process, summarize and report financial information;
  and
 
 b)
      Any fraud, whether or not material, that involves management or other
      employees who have a significant role in the registrant’s internal control
      over financial reporting.
   Dated:
      February 11, 2008
              
              By:
              /s/
      Edward M. LakeEdward M. LakeChief
      Financial Officer
 
 
  27
  
 Exhibit
32.1
  CERTIFICATION
OF CHIEF EXECUTIVE OFFICER
  I,
Clifton L. Cooke, Jr., Chief Executive Officer of SYS (the “Registrant”), do
hereby certify pursuant to Rule 15d-14(b) of the Securities and Exchange Act of
1934, as amended, and Section 1350 of Chapter 63 of Title 18 of the United
States Code that:
  (1)
      the Registrant’s Quarterly Report on Form 10-Q of the Registrant for the
      quarter ended December 28, 2007 (the “Report”), to which this
      statement is filed as an exhibit, fully complies with the requirements of
      Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as
      amended; and
 
 (2)
      the information contained in the Report fairly presents, in all material
      respects, the financial condition and results of operations of the
      Registrant.
  Dated:
      February 11, 2008
              
              By:
              /s/
      Clifton L. Cooke, Jr.Clifton
      L. Cooke, Jr.Chief
      Executive Officer
 
 
  28
  
 Exhibit
32.2
  CERTIFICATION
OF CHIEF FINANCIAL OFFICER
  I, Edward
M. Lake, Chief Financial Officer of SYS (the “Registrant”), do hereby certify
pursuant to Rule 15d-14(b) of the Securities and Exchange Act of 1934, as
amended, and Section 1350 of Chapter 63 of Title 18 of the United States Code
that:
  (1)
      the Registrant’s Quarterly Report on Form 10-Q of the Registrant for the
      quarter ended December 28, 2007 (the “Report”), to which this statement is
      filed as an exhibit, fully complies with the requirements of Section 13(a)
      or 15(d) of the Securities Exchange Act of 1934, as amended;
      and
 
 (2)
      the information contained in the Report fairly presents, in all material
      respects, the financial condition and results of operations of the
      Registrant.
  Dated:
      February 11, 2008
              
              By:
              /s/
      Edward M. LakeEdward M. LakeChief
      Financial Officer